Hostname: page-component-76fb5796d-skm99 Total loading time: 0 Render date: 2024-04-25T11:57:35.263Z Has data issue: false hasContentIssue false
  • English
  • Français

Behavioral Portfolio Theory

Published online by Cambridge University Press:  06 April 2009

Hersh Shefrin  and
Meir Statman
Get access Rights & Permissions [Opens in a new window]

Abstract

We develop a positive behavioral portfolio theory (BPT) and explore its implications for portfolio constrution and security design. The optimal portfolios of BPT investors resemble combinations of bonds and lotterly tickets consistent with Friedman and Savage's (1948) observation. We compare the BPT efficient frontier with the mean-variance efficient frontier and show that, in general, the two frontiers do not coincide. Optimal BPT portfolios are also different from optimal CAPM portfolios. In particular, the CAPM two-fund separation does not hold in BPT. We present BPT in a single mental account version (BPT-SA) and a multiple mental account version (BPT-SA). BPT-SA investors integrate their portfolios into a single mental account, while BPT-SA investors segregate their portfolios into several mental accounts. BPT-SA portfolios resemble layered pyramids, where layers are associated with aspirations. We explore a two-layer portfolio where the low aspiration layer is designed to avoid poverth while the high aspiration layer is designed for a shot at riches.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 35 , Issue 2 , June 2000 , pp. 127 - 151
Copyright
Copyright © School of Business Administration, University of Washington 2000

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

Footnotes

*

Both authors, Department of Finance, Leavey School of Business, Santa Clara University, santa Clara, CA 95053. We thank Enrique Arzac, Peter Bernstein, the late fisher Black, Werner De Bondt, Daniel Kahneman, Lola Lopes, Harry Markowitz, and Drazen Prelec for comments. We also thank Stephen Brown (the editor) and William Goetzmann (associate editor and referee) for construtive advice on how to shape the paper. This work was supported by the National Science Foundation, grant NSF SES-8709237, and the Dean Witter Foundation.

References

Allais, M. “The foundations of a Positive Theory of Choice Involvinf Risk and a Criticism of the Postulates and Axioms of the American school.” In Expected Utility Hypotheses and the allais paradox, Allais, M. and Hagen, O., eds. Dordrecht, Netherlands: Reidel (1979) (original work publisher 1952).10.1007/978-94-015-7629-1CrossRefGoogle Scholar
Allen, F., and Gale, D.. “Optimal Security Design.” Review of Financial Studies, 1 (Autumn 1988), 229–263.10.1093/rfs/1.3.229CrossRefGoogle Scholar
Arzac, E., “Utility Analsis of Chance-Constrained Portfolio Selection.” Journal of Financial and Quantitative Analysis, 8 (1974), 993–1007.10.2307/2329731CrossRefGoogle Scholar
Arzac, E., and Bawa, V.. “Portfolio Choice and Equilibrium in Capital Markets with Safety-first Investors.” Journal of Financial Economics, 4 (1977), 277–288.10.1016/0304-405X(77)90003-4CrossRefGoogle Scholar
Blume, L., and Easley, D.. “Evolution and Market Behavior.” Journal of Economic Theory, 58 (1992), 9–40.10.1016/0022-0531(92)90099-4CrossRefGoogle Scholar
Canner, N.; Mankiw, N. G.; and weil, D.. “An Asset Allocation Puzzle.” American Economic Review, 87 (1997), 181–191.Google Scholar
Dubins, L. E., and Savage, L. J.. “Inequalities for Stochastic Processes: How to Gamble if you Must.” 2nd ed. New York, NY: Dover (1976).Google Scholar
Elton, E., and Gruber, M.. Modern Portfolio Theory and Investment Analysis. New York, NY: John Wiley & Sons, Inc., (1995).Google Scholar
Fisher, K., and Statman, M.. “Investment Advice from Mutual Fund Companies.” Journal of Portfolio management, 24 (Fall 1997) 9–25.10.3905/jpm.1997.409626CrossRefGoogle Scholar
Friedman, M., and Savage, L. J.. “The Utility Analysis of choices Involning Risk.” Journal of political Economy, 56 (1948), 279–304.10.1086/256692CrossRefGoogle Scholar
Green, R., and Rydqvist, K.. “Ex-Ray Behavior with Dividend Preference and Limitations to Short-term Arbitrage: the case of Swedish Lottery Bonds.” Journal of Finacial Economics, 53 (1999), 145–187.10.1016/S0304-405X(99)00019-7CrossRefGoogle Scholar
Kahneman, D., and Tversky, A., “Prospect Theory: An Analysis of Decision Making under Risk.” Econometrica, 47 (1979), 263–291.10.2307/1914185CrossRefGoogle Scholar
Kritzman, M. “what Practitioners Need to Know …about Time Diversification.” Financial analysis Journal, 50 (01/02 1994), 14–18.10.2469/faj.v50.n1.14CrossRefGoogle Scholar
Kroll, Y.: Levy, H.; and Rapoport, A.. “Experimental Tests of the Separation Theorem and the Capital Assets Pricing Model.” American Economic Review, 78 (1988), 500–518.Google Scholar
Jorion, P.. “Mean-variance Analysis of Currency Overlays.” Financial Analysts Journal, 50 (05/06 1994), 48–56.10.2469/faj.v50.n3.48CrossRefGoogle Scholar
Lopes, L., “Between Hope and Fear: The Psychology of Risk.” Advances in Experimental social Psychology. 20 (1987), 255–295.10.1016/S0065-2601(08)60416-5CrossRefGoogle Scholar
Lopes, L. L., and Oden, G. C.. “The Role of Aspiraton Level in Risk Choice: A Comparison of Cumulative prospect Theory and SP/A Theory.” Journal of Mathematical psychology, 43 (1999), 286–313.10.1006/jmps.1999.125910366519CrossRefGoogle Scholar
Markowitz, H. “Portfolio selection.” Journal of Finance, 6 (1952a), 77–91.10.2307/2975974Google Scholar
Markowitz, H. “The Utility of Wealth.” Journal of political Economy, 60 (1952b), 151–158.10.1086/257177CrossRefGoogle Scholar
Markowitz, H. Portfolio Selection: Efficent Diversification of Investments, New York, NY: John wiley & Sons (1959)Google Scholar
Markowitz, H.. “The Early History of portfolio Theory: 1600–1960.” Financial Analysts Journal, 55 07/08 1999), 5–16.10.2469/faj.v55.n4.2281CrossRefGoogle Scholar
McConnell, J., and Schwartz, E.. “The Origin of LYONs: A Case Study in Financial Innovation.” Journal of Applied Corporate Finance, 4 (Summer 1992), 40–47.10.1111/j.1745-6622.1992.tb00216.xCrossRefGoogle Scholar
Parzen, E. Modern Probability Theory and Its Applications. New York, NY: Wiley (1960).CrossRefGoogle Scholar
Quiggen, J. “A Theory of Anticipated Utility.” Journal of Economic and Behavioral Organization, 3 (1982), 323–343.10.1016/0167-2681(82)90008-7CrossRefGoogle Scholar
Roy, A. D. “Safety-First and the Holding of Assets.” Econometrica, 20, (1952), 431–449.10.2307/1907413CrossRefGoogle Scholar
Shefrin, H., and Statman, M.. “Explaining Investor preference for Cash Dividends.” Journal of Financial Economics, 13 (1984), 253–282.10.1016/0304-405X(84)90025-4CrossRefGoogle Scholar
Shefrin, H., and Statman, M.. “The Disposition to Sell winners Too Early and Ride Losers Too Long: Theory and Evidence.” Journal of Finance, 40 (1985), 777–790.10.2307/2327802CrossRefGoogle Scholar
Shefrin, H., and Statman, M.. “Behavioral Aspects on the Design and Marketing of Financial Products.” Financial Management, 22 (1993), 123–134.10.2307/3665864CrossRefGoogle Scholar
Shefrin, H., and Statman, M.. “Behavioral Capital Asset Pricing Theory.” Journal of Financial and Quantitative Analysis, 29 (1994), 323–349.10.2307/2331334S0022109000008978CrossRefGoogle Scholar
Telser, L., “Safety First and Hedging.” Review of Economic Studies, 23 (1955), 1–16.10.2307/2296146CrossRefGoogle Scholar
Thaler, R., and Shefrin, H.. “The Economic Theory of Self-Control,” Journal of Political Economy, 89 (1981), 392–406.10.1086/260971CrossRefGoogle Scholar
Tversky, A., and Kahneman, D.. “Rational Choice and the Framing of Decisions.” Journal of Business, 59 (1986), S251–S278.10.1086/296365CrossRefGoogle Scholar
Von Neumann, J., and Morgenstern, O.. Theory of Games and Economic Behavior. Princeton, NJ: Princeton Univ. Press (1944).Google Scholar
Yaari, M. “The Dual Theory of Choice under Risk.” Econometrica, 55 (1987), 95–115.10.2307/1911158CrossRefGoogle Scholar